Emerging markets are an exciting way for investors to find new opportunities. These lesser-known markets can provide a straightforward way to get access to faster-growing companies that are not yet household names in the U.S. or other developed markets. Emerging markets ETFs allow you to invest in these smaller, riskier companies and economies as a group. An emerging markets Exchange Traded Fund will give you exposure to a wide range of stocks from different emerging markets around the world, diversifying your portfolio and reducing your risk at the same time. In this article, we introduce the benefits of investing in emerging markets and describe the different types of emerging market ETFs available. Read on to learn more about how you can find the best emerging markets ETF for your portfolio.
What Are Emerging Markets?
Emerging markets are economies that are still in the process of developing. At any given time, each country’s level of development is somewhere on a continuum. Developed countries like Japan and Germany, for example, have been highly developed for decades. Other economies, like those in Sub-Saharan Africa, have barely begun the journey to economic development. When investors talk about emerging markets, they are referring to countries whose economies are still in the early stages of growth. These markets have plenty of room to grow and expand, and investors see significant long-term potential in these markets. Emerging markets are attractive to many investors because they are less mature than developed economies. There is more opportunity for growth in emerging markets, but those opportunities also come with higher risk.
Why Invest in Emerging Markets?
Investing in emerging markets provides an opportunity to access new, fast-growing companies and economies. Emerging markets offer investors the potential for higher returns than more mature economies. But, these markets and their companies come with higher risk because they are not yet mature. People often invest in emerging markets as part of a globally diversified portfolio of stocks and bonds for two primary reasons:
- Higher expected returns. Despite their higher risk, emerging markets offer the potential for higher returns. These markets are growing faster than more mature economies, giving companies in these markets more opportunities to expand their businesses. As a result, investors can earn higher rates of return on their investment in these markets. Keep in mind, however, that these higher expected returns come with higher risk.
- Diversification. Investing in emerging markets offers a way to improve the overall risk of a portfolio. By investing in a wide range of companies in different emerging markets, you can reduce the risk of any individual company or country affecting your portfolio as a whole.
Different Types of Emerging Markets ETFs
There are three primary types of emerging markets ETFs:
- Broad-based ETFs. These ETFs invest in companies in several emerging markets. They are a good choice if you want a diversified portfolio that includes the largest emerging markets.
- Region-focused ETFs. These ETFs invest in companies in a single geographic region, such as Asia or Latin America. They are a good choice if you want to focus on a single region and its companies.
- Country-focused ETFs. These ETFs invest in companies in a single country. They are a good choice if you want to focus on a single country and its companies.
How to Find the Best Emerging Markets ETF
These investment types can each offer a range of investment options. When you are searching for the best emerging markets ETF for your portfolio, you should consider three things:
- The type of emerging markets ETF you want to invest in. You’ll want to choose an investment type and a specific ETF according to your investment objectives and risk tolerance.
- The level of diversification you want in your portfolio. Broad-based ETFs are less diversified than region-focused or country-focused ETFs.
- The expense ratio of the ETFs you’re considering. The expense ratio is the annual fee charged by the fund manager. You’ll want to look for ETFs with low expense ratios.
Other Important Considerations Before You Buy
Emerging markets come with higher risk than more mature economies. This means that you may lose money if you invest in emerging markets. You should be prepared for the possibility of a loss and have a plan for how you will handle a loss in your portfolio. In addition to the risk of losing money, there are other important considerations when it comes to investing in emerging markets. These include:
- Liquidity risk. Liquidity risk refers to the ease with which you can sell an investment. Liquidity risk is higher for investments in emerging markets because it can be more difficult to sell those investments.
- Exchange rate risk. Exchange rate risk refers to the risk that the value of the investments in your portfolio will be affected by changes in exchange rates.
- Governance risk. Governance risk relates to the risk that the companies in your portfolio will not be managed or governed in a way that makes them attractive investments.
Bottom line
Emerging markets offer a way to invest in faster-growing economies with new companies and better long-term growth potential. While investing in emerging markets comes with higher risk, it can also provide the potential for higher expected returns. Before you buy an emerging markets ETF, you’ll want to consider the type of investment you want to make, the level of diversification you want in your portfolio, and the expense ratio of the ETFs you’re considering. You’ll also want to be prepared for the possibility of losing money and have a plan for how you will handle a loss in your portfolio.
